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New U.S. water legislation: a drop in the bucket

Yesterday, President Obama signed into law the long awaited Water Resources Reform and Development Act of 2014 (WRRDA). WRRDA enacts significant reforms to accelerate project delivery and streamline environmental reviews and procurement by the U.S. Army Corps of Engineers of water infrastructure projects. It also establishes a pilot program for “public-private partnerships” in the water sector and creates the Water Infrastructure Finance and Innovation Authority (WIFIA), a water sector counterpart to the successful TIFIA loan program administered by the U.S. Department of Transportation in the transportation sector, and green lights a five-year program for low-interest loans and guarantees for qualifying water infrastructure projects.

At first blush, this sounds like great progress towards making a dent in the over USD380 billion in capital improvements the Environmental Protection Agency (EPA) has reported are needed by 2031 to maintain safe drinking water in the U.S. and improve the abysmal grades given by the American Society of Civil Engineers to water infrastructure. And one should be grateful for any act of bipartisan lawmaking emerging from Washington DC these days. But in reality, these initiatives are a drop in the bucket towards solving the problem of chronic under-investment and disrepair in the water industry and mobilizing private sector investment and the use of public-private partnerships in the water industry.

The EPA and U.S. Army Corps of Engineers will oversee the pilot program for “public-private partnerships” and are authorized to enter into 15 or more projects for water infrastructure projects. However, the scope of these arrangements is limited to design and construction only, precluding the use of any truly integrated method of delivery over a long term period with operational risk transfer to the private sector, which is how most would define a true public-private partnership.

In the case of WIFIA, this has been funded to the tune of a mere USD20 million in fiscal year 2015 and anticipates annual increases up to a maximum of only USD50m in fiscal year 2019. Optimists refer to the possible high leverage that this will enable, but relative to need across the country it will be a tiny fraction. Similar to TIFIA, loans will be available for up to 49% of project costs for qualifying projects beginning in 2015 for a maximum term of 35 years and will benefit from a springing lien feature in the event of bankruptcy of the borrower. Repayment of WIFIA loans is deferred for up to five years following substantial completion and interest rates are tied to long-term Treasury rates. However, tax-exempt financing, such as private activity bonds, cannot be used in conjunction with a WIFIA loan. The inability to optimize finance sources when developing the capital plan for water projects will serve to increase the cost of utilizing alternative delivery methods for procuring these projects for water authorities.

The real issue at the heart of the country’s deteriorating water infrastructure is not the availability or even the price of financing. Rather, the issue plaguing the U.S. water sector, and hindering private investment and optimized management of water assets, is a fundamental gap between end-user rates and the cost of constructing, operating and maintaining water facilities. This gap has been masked to an extent by the common practice of deferring maintenance, resulting in the current predicament. Unlike other utilities such as electricity, water rates are not federally regulated and, for largely local political reasons, have not kept pace with the cost of constructing, upgrading, operating and maintaining water infrastructure. Deployment of a regulated asset based model allowing for a reasonable rate of return in addition to cost recovery would permit the remediation and construction of water assets and their optimal operation and maintenance over the full period of their economic useful lives. A regulated asset based model could be developed by municipalities and local water authorities on a contractual or regulatory basis. For example, in the long-term concession of the City of Bayonne, New Jersey's water system, the first of its kind U.S. public-private partnership, end-user rates will increase consistent with the cost base for improving and maintaining that system over the whole term of the concession. The upside to the private partner is maintained at a reasonable rate and would be attractive to exactly those sources of long term capital that would make this structure politically palatable, namely pension funds and life insurance companies as well as the funds who manage their money. This is the kind of reform needed before meaningful amounts of private investment will flow through the water sector.

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